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57th Annual Management Conference 2009

With markets facing the biggest challenge in recent history, Management Conference reached a record-breaking audience of more than 5,000 people in over
40 countries this spring with the first-ever web simulcast, a full house in Chicago that drew a university-wide audience, and a guided discussion at the London campus. Six Chicago Booth faculty addressed the role government should play in the economic recovery, executive compensation, and the importance of human capital at a panel moderated by veteran journalist Ray Suarez.

Photography by Matthew Gilson

Management of the Markets

Faculty panelists debate the role of government in the economy

By Vanessa Sumo

In the midst of the worst recession since the 1930s, countries around the world are re-examining whether governments should play a bigger role in the economy.

The debate is centered on two visions of capitalism: the Anglo-Saxon model that mainly relies on competition, and the government-directed French model that protects individual companies and labor, said Gary Becker, University Professor of Economics and of Sociology.

Becker was part of a special panel of economists who shared their views on “The Future of Markets” at Chicago Booth’s 57th annual Management Conference at the Sheraton Chicago on May 29. Ray Suarez, senior correspondent of PBS’s The NewsHour, moderated the panel.

That the U.S. government has taken a substantial stake in private companies as well as introduced proposals to spread the importance of unions and change the thrust of antitrust policy is something that Becker finds worrying. “The belief that the French model is better than the Anglo-Saxon model is just inconsistent with the data,” he said, citing enormous differences in GDP growth and in the overall and youth
unemployment rates of the United States, Great Britain, and France between 1990 and 2007, which favor the more free market economies of the United States and Great Britain.

Economic growth is vital for improving living standards over time. “Your bread is really buttered by growth,” said Kevin Murphy, George J. Stigler Distinguished Service Professor of Economics. That’s why Murphy is concerned that the U.S. government is moving toward policies that reduce incentives to invest in physical and human capital and that impede innovation and the movement of resources—all key ingredients to growth.

“The kinds of changes that have been talked about—reregulation, tighter antitrust policy, limits on compensation—they run the risk of slowing down that long-run engine of growth,” said Murphy. “While markets can cause short-run fluctuations, they are far and away the best tool we have for providing long-term growth for the United States and the rest of the world.”

People have lost faith in markets as a result of business’s excesses, which makes it easier to accept a more active government. However, Raghuram Rajan, Eric J. Gleacher Distinguished Service Professor of Finance, said it was, in fact, government policies that contributed tremendously to rising asset prices and the relaxation of credit conditions leading up to the crisis. “Clearly, a lot of the blame belongs to the private sector, but we don’t turn around and blame the regulators,” said Rajan. “When we regulate, we’re going to find that the same old forces that were responsible for the move up will actually get more power in this process.”

Accommodative policies in the United States were put in place to compensate for the relatively stagnant wages of low-skilled workers who would have otherwise been unhappy to see so much growth going on in which they were unable to participate. The overall objective of helping those who are left behind is laudable, but when the government starts remaking the economy, the details of the proposed solutions matter, said Rajan. For instance, redistribution is one way to improve the fortunes of this group, but with adverse consequences to productivity. Another way would be to increase productivity by improving the capabilities of low-skilled workers through better education, which would likely involve tackling the unions, which some perceive as a big part of the problem in education.

Steven Kaplan, Neubauer Family Professor of Entrepreneurship and Finance, said the government should stick to market-oriented solutions when intervening. But that’s not what he sees happening in the present administration and Congress. “They’re interpreting the anger that is out there as a mandate to redistribute,” said Kaplan. For instance, CEOs get a lot of criticism for the enormous amounts that they are paid. But whether CEOs deserve their pay or not, the panelists agreed limiting pay, or letting the governments decide pay levels, is a bad idea.

But Marianne Bertrand, Chris P. Dialynas Professor of Economics, said competitive markets are unable to undo some of the mistakes that people seem to keep making—for instance, when choosing a mortgage or buying insurance. Consequently, there may be a place to institute measures that can help people make such complex choices.

Bertrand also expressed concern that few safety nets are built into the system. Although she acknowledges that having safety nets can undermine long-term growth, she said there are other important indicators of well-being such as minimizing feelings of insecurity. “In my mind, there is always this tradeoff between growth and minimizing variances,” said Bertrand. “And I feel like a lot of continental European
economies have decided they wanted to minimize variances.”

When it comes to emergency situations, it may be necessary for government to step in to stabilize the system as it did when the financial system froze last year. “Some of the interventions in the financial system prevented things from getting much, much worse,” said Anil Kashyap, Edward Eagle Brown Professor of Economics and Finance. However, Kashyap said, the exit strategies need to be thought through. “The thing I’m most worried about for our interventions, say, in the financial system, is that the political pressure to stay in is going to be astronomical,” Kashyap said.

However the government decides to intervene, Becker said that the regulations should operate automatically. In other words, he favors rules-based regulation rather than discretion. “The regulators have failed in this case,” said Becker. “If you give a lot of discretion to the regulators, they’ll get caught up exactly in the same sort of mentality that the private sector gets caught up in.”

Becker also said that although the Anglo-Saxon model has had its defects, it has performed well over long periods of time.

“I think it would be a shame if the United States and other countries, in their recognition of the serious difficulties that we’re in now, greatly injured that model,” said Becker. #

For complete coverage including a video recording, podcasts, and an audio slideshow, visit ChicagoBooth.edu/MC2009.

Whose Free Market Is It Anyway?

The View from the Moderator’s Chair: Ray Suarez

Interview by Libby Morse Edited by Melissa M. Bernardoni

After he walked off the Management Conference stage, veteran
journalist Ray Suarez gave Chicago Booth Magazine his take on this year’s free-wheeling debate.

The term “free markets” is a pretty big umbrella and you can fit a lot under it. The panel showed that while everyone thought
market-based economies would provide the most wealth to the most people over time, there was a range of views of how much politics—and crisis-based policy-making—intrude, and whether there was a rightful place for the government in the management of marketplaces.

Executive (Over) Compensation
We’re in the midst of a crisis where billions of dollars of housing value has been lost, and billions more from the value of people’s retirement accounts. Economists say, sort of blandly, “Markets correct, the froth is being knocked off, and maybe now we’ll be able to get back to the true value of these houses,” which is well-reasoned, but the way to get people’s juices flowing is to talk about executive compensation! It was a lively exchange and one that further demonstrated the differences in approach among the panelists.

All big believers in marketplaces, they were wrestling with how marketplaces work in this one very small niche in the economy. The market forces that push and pull on CEOs aren’t quite the same as for people who work in retail. But even there you saw differences
in approach. Raghu Rajan understood there’s a political problem. Marianne Bertrand spoke about not having friends of the CEO deciding what that person ought to be paid. They understood that there was an appearance problem and a mechanics problem in getting the best results for the best money, but at the same time Steve Kaplan pointed out, “Some of this is already working.” Executive pay is moderating, the way the marketplace chastens people is already happening—even in this peculiar marketplace. Anil Kashyap wasn’t having any of that! He pointed out that CEOs in other countries make much less money and run successful companies, and why couldn’t they be hired by American enterprises? That helped me, because I was trying to push them on how marketplace forces that have worked very efficiently in other places in the labor force haven’t done the same in the upper reaches of the corporate hierarchy.

Human Capital Makes the World Go ’Round
A lot of academic work by Kevin Murphy and Gary Becker has centered on how people invest in themselves to create human capital—the decisions that affect the economy because tens of thousands of people are making those decisions at a time. The question for the panel was whether people still think that’s worthwhile. People make decisions that have long-term consequences based on short-term conditions, and during three or four very tough years, it might seem like a bridge too far to invest further in creating your own human capital. The counter example is people who see the job market as inhospitable right now, and who decide to go into debt and go to graduate school, hoping the combination of more time for the economic cycle to play out and a further credential will combine to improve their chances once they reenter the marketplace.

On Debate, Chicago Booth–Style
Gary Becker’s riff on human capital was like listening to Einstein talking about physics—one of those moments where you think, I’m so lucky I’m sitting here! Raghu Rajan, former chief economist of the International Monetary Fund, talking about the developing world and how what’s going on in the United States is regarded there, joked that people might take away what he thinks are the wrong lessons. One
Indian told him, “We’re already ahead of the United States: we nationalized our banks before you did.” There were some terrific moments of interplay—Kaplan defending the notion that there should be no limits on executive pay—he was practically jumping out of his seat. Everybody on the panel sat up and was gesticulating and shouting back and forth.

The Market Isn’t Transparent
Bertrand’s research is showing that people don’t always make the best choices for themselves, but we still respect those choices. She was speaking up for providing more information and guidance as part of the regulatory scheme, so that if people are making economic choices that are ill-advised, there might be opportunity for them to get some information before plunging ahead. With everything that’s gone on in the recent past with the mortgage market, that’s something that ought to be listened to.

Top-flight economists are very smart, but sometimes they are so caught up in the aggregate of vast numbers that they can become untethered from a regular person who’s just gotten a credit card offer in the mail and has to figure out whether that teaser rate versus the rate that kicks in six months later is really for them. They might not know what the prime rate is, so in six months when the rate becomes prime plus six, how many of them are then going to figure it out? The way people make decisions is sometimes more simple and more complicated than that. And in the case of credit cards—and by extension, mortgages as well—the powerful player is the lender, not the borrower. We’ve seen that in spades in the last couple of years.

Why Chicago Booth is Different from Washington DC
When you’re a reporter in Washington, you earnestly ask questions, hoping to get from someone what they really think, some acknowledgement that the problem is complicated, and talk about what the solutions might be. What you too often get instead is something more akin to theology: prepared talking points, with no acknowledgement that anything about this point is difficult, because you just subject it to this quick, binary litmus test: yes, no, blue team, red team, Dems, Reps. Conversations get flattened and
simplified at the most complex time in the history—well, since the Civil War.

It was refreshing to be on stage with serious people who recognize that some of this stuff is complicated, who have very strongly held beliefs accumulated over a lifetime of how the world ought to work, and yet when you ask them a tough question, they don’t simply revert back to theology and give you their talking points, but play with what makes an idea hard.

They’re ready to defend their turf, but they’re also ready to concede in some cases that they don’t have a one-size-fits-all answer for some of the tough problems. They’re a lot easier to work with than senators, I’ll tell you that. The thing I love about a gathering like that is that they do with ideas what the Harlem Globetrotters did before a game. They stood in a circle and they spun the ball on their fingers and rolled it around their heads, shot it back and forth across the circle. Just being a witness to that, as people who are very well schooled in some of the toughest things to explain about human behavior, took an idea, turned it upside down, looked at the bottom, looked at it from the
other side, shot it back to the other guy who then passed it to the woman next to him…. It’s that kind of willingness to discuss things that are hard and make it look easy, that is a great joy of being in a gathering like that. #